Flash loan attacks can lead to financial loss, reputational damage, and regulatory scrutiny. Learn how to prevent flash loan attacks with Amberdata.
Flash loan attacks involve taking out a large flash loan — an uncollateralized loan that enables users to borrow large amounts of cryptocurrency in a single transaction — to manipulate prices or exploit decentralized finance (DeFi) protocol vulnerabilities.
These attacks can have major impacts on DeFi protocols and their users, potentially leading to loss of funds, loss of trust in the affected protocol, and market disruption.
For example, since 2020, flash loan attacks have led to the loss of hundreds of millions of dollars. One of the most notable attacks occurred in 2023 when Euler Finance lost nearly $200 million to a flash-loan hacker.
Fortunately, DeFi protocol developers can leverage various tools and strategies to guard against flash loan attacks. Meanwhile, investors can learn the risks and choose protocols that apply safeguarding strategies — like using decentralized oracles — to protect users.
A flash loan attack begins when a DeFi attacker takes out a loan from a DeFi platform. They then use that loan to exploit a vulnerability identified within a DeFi protocol — specifically, its smart contract.
After successfully exploiting a vulnerability in a smart contract, the attacker can repay the loan and pocket a profit. Since all these steps occur on a blockchain, each must succeed for a complete execution. If one step fails, the whole attack is reversed, with minimal loss to the attacker.
Flash loan vulnerabilities commonly involve manipulating prices. For example, with price oracle manipulations — one of the most common vulnerabilities — attackers use flash loans to create artificial arbitrage or liquidation opportunities. They use the loan to buy or sell an asset, typically on a low-liquidity decentralized exchange (DEX), to inflate or deflate its price. This manipulated price data influences an oracle's data, which is fed into a DeFi protocol.
The attacker can then use the impacted DeFi protocol to borrow more funds with collateral resulting from inflated prices, profit from price differences between the impacted DEX and other exchanges, or trigger unfair liquidations within the impacted DeFi protocol due to deflated asset prices.
Some flash loan attacks, called non-price flash loan attacks, are unrelated to pricing manipulation. For instance, attackers can launch reentry attacks on smart contracts, repeatedly withdrawing funds and draining the impacted smart contract. Attackers can also use flash loans to borrow a significant amount of governance tokens and pass malicious proposals, as happened with the 2022 Beanstalk attack.
Smart contracts are programs with code defining specific conditions and enforcing agreements between two parties. Their conditions must be met before an action, like lending, takes place. These self-executing programs function autonomously and are responsible for automating the actions needed for blockchain transactions to occur.
Smart contracts are the foundational technology of DeFi platforms — and where flash loan attacks take place. One of the primary reasons why smart contracts can be vulnerable to attacks is that they rely on external data sources for price information. Therefore, if a smart contract depends on data from an easy-to-manipulate oracle, it's more likely to be attacked.
A flash loan attack can have a significant impact on DeFi protocols and their users, leading to the following consequences:
Attackers might directly drain funds from DeFi protocols by exploiting smart contract vulnerabilities. Though the protocol will likely suffer the most from direct fund theft, users can also be impacted, losing assets they've deposited that they may not get back if the protocol cannot recover.
Price manipulations can disrupt the market across various exchanges and trigger a host of negative effects, from collateral liquidations to heightened volatility. Market disruption impacts not just the attacked DeFi protocol but other users and platforms.
If a protocol directly loses funds due to a flash loan attack, fewer assets will be available for distribution and for generating returns for those who have a claim on those assets, like liquidity providers. Users may also withdraw funds after an attack and be afraid to continue using the protocol, which would decrease trading volume and earnings potential.
Flash loan attacks can have a domino effect on the market, leading to many liquidations and losses to borrowers and lenders. For instance, if an attacker manipulates asset prices, some borrowers' assets might become undercollateralized, triggering automatic liquidations of their collateral and causing loss.
Many simultaneous liquidations can also cause the market to have abundant collateral assets, driving their prices down. As a result, lenders may be unable to repay the full value of collateral assets.
Flash loan attacks can significantly erode user trust in a DeFi platform. Attacks can cause users to look toward alternatives — like centralized platforms or other DeFi protocols — and create the impression that DeFi trading is too risky. Investors and the general public will be less inclined to embrace DeFi for investing, which will decrease adoption and lead to greater financial loss for DeFi companies.
A flash loan attacker might expose a flaw in a smart contract or protocol that other attackers can exploit, potentially even without needing a flash loan. An exposed vulnerability can also spread across interconnected systems, opening doors for more attackers to take action.
Attacks draw the attention of regulators, such as the U.S. Securities and Exchange Commission's Crypto Task Force, who could place greater restrictions on DeFi activity. More regulations often translate to decreased innovation and adoption, as well as higher compliance costs.
Here are the ways thqat DeFi protocols can guard against flash loan attacks or mitigate their impacts:
Smart contract security relies on the integrity of its code and the blockchain framework it's built on. Any error in smart contract code is a vulnerability that attackers could exploit. Since smart contract code is complex and immutable, a rigorous, multilevel approach to security is best.
Developers can use tools and strategies to ensure their smart contracts are secure before deployment. This approach mainly entails using verification tools to make sure smart contract code has no known vulnerabilities. After deployment, security professionals should audit the code and look for issues like reentry vulnerabilities — such as the absence of checks-effects-interactions patterns — missing access controls, and logic errors.
Auditors and developers can use Amberdata's contracts API to retrieve the data necessary for verification or analysis tools to test for smart contract vulnerabilities. The Blockchain Contracts namespace in the Amberdata API provides users with detailed information about a smart contract, such as bytecode, source code, and application binary interface (ABI), to analyze the contract's security.
Since oracle manipulation is one of the top causes of a flash loan attack, prioritizing oracle security is key. Smart contracts use oracles to interface with external exchange data. Using multiple decentralized oracles to pull data from various sources minimizes the risk of an oracle being influenced by a single, manipulated data point.
If you're a decentralized oracle provider or DeFi protocol, consider Amberdata for clean, accurate data. We provide reliable price feeds to DeFi applications and oracle networks. By partnering with first-party oracle networks, we can publish data directly on-chain, increasing transparency and reducing the risk of tampering before the data reaches a DeFi protocol. Our use of third-party oracles increases decentralization, enhancing the overall security of a DeFi ecosystem.
Liquidity monitoring, which involves tracking the number of assets and trading activity in a liquidity pool, is essential to detecting suspicious activity early. For example, if a protocol notices a sudden and drastic change in liquidity, it could mean there's a flash loan attack underway.
Many tools are available for tracking and analyzing liquidity data throughout the DeFi ecosystem, such as Amberdata's DeFi Intelligence solution. Our solution provides real-time data and analytics to reliably detect liquidity changes and market manipulations, empowering protocols to proactively protect against flash loan attacks. Users can monitor liquidity across decentralized exchanges, analyze liquidity trends, and track large liquidity shifts to manage risk.
Balanced liquidity pools are crucial for stable decentralized exchanges. Maintaining a deep, balanced pool means that large trades will have a smaller impact on the prices of assets in the pool, deterring attackers from using a flash loan to manipulate prices.
There are multiple strategies DeFi protocols can use to maintain healthy liquidity pools. A common strategy is incentivizing liquidity providers to deposit assets in the pool by offering token rewards. Another strategy is to encourage arbitrageurs to rebalance pools by trading.
DeFi protocols can limit the amount of funds borrowed in a single transaction by hardcoding limits into smart contracts. Limiting fund amounts prevents attackers from making massive trades to influence asset prices. It also makes a flash loan less attractive to would-be attackers because it reduces profit potential.
Amberdata has expertise in aggregating and normalizing on-chain data from over 10 blockchain networks, delivering digestible, actionable insights to DeFi protocols and investors. DeFi protocol developers, asset managers, investors, and others involved with digital assets rely on our DeFi market data and tools for deep insights into price movements and liquidity to mitigate the risk of flash loan attacks.
Although flash loans are used to keep the DeFi market alive and growing, the dangers of flash loan attacks are also real. By having access to real-time, granular on-chain data, DeFi protocols and investors can monitor transaction behavior and detect threats or vulnerabilities proactively.
Drive vulnerability identification and risk management strategies with Amberdata. Our robust on-chain data infrastructure empowers companies to detect flash loan attacks promptly so they can take action to protect user investments.
Contact us today to learn more about our digital asset data solutions or request a demo.